The effects of overwithholding and retroactive savings options on retirement savings: An experimental analysis

In three experiments, we examine how the widespread phenomenon of overwithholding affects retirement savings and how the additional option at tax time of saving retroactively for retirement affects total savings levels. Our results show that overwithholding significantly reduces retirement savings. We show that this outcome can be explained by individuals' anchoring on their take-home pay when making savings decisions and by individuals' reduced motivation to save in the presence of overwithholding. Moreover, we find that the introduction of an additional retroactive savings option at tax time increases overall savings by providing information about the correct after-tax income and by emphasizing the importance of a savings norm that nudges individuals to save. Furthermore, our findings demonstrate that immediate taxation (back-loaded retirement plans) results in greater effective savings than deferred taxation (front-loaded retirement plans), irrespective of whether there is overwithholding or the existence of an additional option to save. Policy-makers may therefore consider both the introduction of an additional savings option at tax time and immediate taxation as policy tools to encourage retirement saving.